Growing Dividend REITs

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The recent drop in equities, which was prompted by the possibility of an imminent interest rate hike, might help us explain certain rallies among REIT stocks. Just as some group of stocks went up over the course of a year, they dropped just as quickly, losing a significant portion of that appreciation. Net lease retail REITs have been one of the most affected groups.

After the Federal Reserve announced in its April meeting minutes that it was open to an interest rate hike in June, financial markets quickly reacted and the S&P 500 dropped slightly. Overall, REIT stocks have seen even steeper falls. However, some REIT sectors have reacted even more dramatically.

For instance, the net lease retail REITs, which have been the darlings of the market, plummeted by an average of 4% in the middle of last week. O and NNN dropped north of 5%. While they did manage to gain some ground by the end of the week, both stocks were still down by 6%. During their April meeting, the Fed decided to maintain the target range for interest rates at ¼ to ½ percent.

The recent fall only serves to reinforce how highly hyped the net lease retail REIT rally has been. For dividend investors, net lease REITs have been a source of high interest. Advantages include a lower operating leverage (tenant covers most, if not all, of the real estate expenses) and the availability of long paying dividend stocks. The lack of a clear change in fundamentals has raised questions about how sustainable this rally is.

On the other hand, data center REITs, which have been our best REIT sector this year, haven’t had the same reaction. Although there was a slight drop, it was not nearly as significant as the one felt by net lease REITs. An explanation can be found in the strong fundamentals, particularly the increasing need to store digital information has served as a catalyst to the industry.

Another noticeable drop occurred in the low productivity mall REITs, which have been affected by prior negative news on the retail space. While low productivity mall REITs have fallen an average of 7%, they closed the week down by almost 5%. This group includes CBL & Associates, WP Glimcher, and PREIT. High productivity mall REITs have fared much better, falling an average of less than 2%.

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.

Improvements to the debt position of Spirit Realty Capital, a net lease retail REIT, led Standard & Poor’s to raise the company’s credit rating to investment grade (from ‘BB +’ to ‘BBB-‘) last Friday.

Spirit is coming from a bad experience with a major tenant that filed for Chapter 11.

Spirit has underperformed in the last twelve months and for the last two years. Also, multiples have been one of the lowest among retail net lease REITs.

The upgrade might be the catalyst that Spirit needs.

Who doesn’t like a plot twist? I do, and Spirit Realty Capital’s turning out to be one. Last week, Spirit received an important seal of Standard & Poor’s, which validated the management’s long-term effort to strengthen balance sheet, increase number of unencumbered properties, and reduce tenant concentration.

S&P granted Spirit an investment grade corporate credit rating (from ‘BB +’ to ‘BBB-‘). This external validation may be what Spirit needed to address years of poor stock performance and brush off last year’s blunder.

Spirit is coming from a bad experience with a major tenant. Haggen, an up and coming grocery store retailer in the Pacific Northwest, filed for bankruptcy relief last September, less than a year after Spirit closed with them on 20 properties via a $224 million sale leaseback transaction. Their rental income represented 2.4% of total revenues. This was a blow to the company’s portfolio and further caused investors to doubt its underwriting process.

Over the months, the situation with Haggen has cleared up and, although it hasn’t run out of its course till to the end, the company seems to have a better control of the properties. Out of the twenty properties involved in the sale leaseback, nine were immediately leased to new tenants in equivalent terms, five were kept by Haggen whose operations will be sold to a new operator, and six were vacated/sold. In conclusion, the situation hasn’t been completely resolved yet, but Spirit was able to reduce the size of the problem.

In addition, over time the company has focused on reducing its Shopkco concentration. Shopkco once represented 16% of Spirit’s rental income, but that figure has now been reduced to around 9%. And with additional asset sales, the company expects it to be around 5%. The result has been a less concentrated portfolio than Realty Income and National Retail Properties.

Spirit also improved leverage indicators. For example, the percentage of unencumbered assets has increased significantly, adjusted debt to the enterprise value has been reduced and fixed rate coverage ratio is now above its target of 2.5x.

However, little progress in the financial market front has been seen over the past years. Compared with Realty Income and National Retail, the stock has underperformed, especially in the last twelve months as well as the last two years. This year, however, the stock performance has been at par with their peers. The difference is that there has been a positive sentiment in favor of net lease retail.

In summary, Spirit’s situation has improved. The external validation might finally help the stock catch up with their peers. With high dividend yield and low FFO multiple, this could be a buying opportunity.

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.

Hotel REITs has occupied the bottom portion of our weekly performance chart, after topping the chart the prior week.

Hotel REITs will be subjected to a higher volatility in function for a lack of a catalyst.

Also, threats such as having a narrowing gap between supply and demand and being able to quickly adjust rates do not help the sector.

Overpriced stocks in the net lease retail and self-storage have also dropped.

Whatever caused the stock to drop appears to have been limited to just equity REITs.

Two weeks ago, hotel REITs has monopolized our headlines for occupying the top position of our weekly performance chart. However, last week they were at the bottom. Yet at the same time, hotel REITs continues to be an attractive option with their lower multiples and high dividends yields. They continue to be very sensitive to market fluctuations. People who buy Hotel REIT should take into consideration that they will be exposed to higher levels of volatility.

I have not observed any changes in the lodging fundamentals that makes me think that a sector’s share appreciation will happen anytime soon. While it is true that demand has been greater than supply; demand growth has decreased and hotel pipeline has increased. This has led to a narrow gap between supply and demand, which shows that supply will soon catch up to demand.

Although some people seem to favor hotels in a rising interest rate environment, the Fed has already signaled that it should be a slow process. Hotels are quick to adjust their daily rates if inflation kicks in. However, remember that this a double-edged sword, since they might also have to reduce their rates. This is not unlikely in an environment where people keep saying that a recession is right around the corner. Alternatively, you might try some individual stocks and look for more robust portfolios.

Overpriced stocks in a net lease retail and self-storage have dropped as well. Popular REITs, such as Realty Income and National Retail Properties have also been at the bottom of our weekly performance chart. According to Seeking Alpha, a slight increase in the 10-year yield has prompted a selloff of REITs (click here).

The fact the Reality Incomes has been overpriced has been propagated among REIT investors which fueled all sorts of opinions. I have seen arguments that are defending this is a good moment to short the stock, or that the stock could be reaching new highs, much like the heights that the Federal Realty Investment and Public Storage enjoy.

Whatever has caused the stock drop last week appears to have been limited to equity REITs, where more than 3/4 of the stocks returned negative. In comparison, the S&P 500 was slightly up and several dividend ETFs were positive. If the cause is really interest rate uptick, this is just a sample of what will happen in the short term when the Fed raises interest rates again.

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.

Oaktree Capital, a major shareholder of Store Capital Corporation (a net lease retail REIT), cashed out Store shares at their highest price since it became publicly traded in November 2014. Until recently, the shares had not suffered significant appreciation, but they are now about a third higher than their initial price.

Oaktree put up for sale more than 33 million shares, almost a quarter of Store’s outstanding shares. However, Store is not pocketing any of the proceeds–all are going to the selling shareholder Oaktree. One main concern was a significant drop in the share price, but it didn’t happen. Prices held up well, demonstrating that interest in this kind of REIT has attracted investors’ interest.

During a period of greater volatility in the first weeks of 2016, we observed that many investors flocked to net lease retail REITs. Companies such as Realty Income and National Retail Properties have appreciated by more than 15% this year, compressing yields to the lower four percent. Store, a net lease retail REIT, has accompanied that trend, as well.

Last December, Oaktree gave signs that Store could fly more freely when their ownership was below 50%. The company ceased to have “controlled status” and was obliged to comply with tighter requirements related to independent directors.

Oaktree is a global investment management firm, specializing in alternative investments with approximately $97 billion in assets under management as of December 31, 2015.

Seritage also benefits from the good momentum.

Perhaps the good momentum of net lease retail has positively affected Seritage Growth Properties. The company, which is a spinoff of select stores of Sears Holdings, has caught investors’ attention for its shareholders. Many like the company because Warren Buffett and Bruce Berkowitz have invested in it; the rationale is that they must have access to information other people don’t so it’s a good buy, even though the company is concentrated on a failing tenant and its yield is a meager 2.0%.

Despite finding it a risky strategy, I’ve read a lot of theories why one should invest in Seritage. The most common idea is that there should be upside once the properties are leased to other tenants. Some investors have indicated that by looking at the property level the company is undervalued. The conversion to other tenants should take time and capital so I’d only invest if I knew the company was deeply discounted. Also, there’s a cap of 50% conversion of the properties, so Sears’ concentration should continue in the long haul.

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.

U.S. equity REITs continue to excel and, on average, have returned an average of 7% so far this month. This should not change. This Wednesday, the Federal Reserve laid out a more conservative scenario for interest rate hikes in 2016 (two rather than four rate increases). Although the Fed has been optimistic about the US economy, they will slow the pace of rising interest rates due to concerns over weaker global growth. Because interest rate hikes have been the source of several REIT selloffs in 2015, we expect a smooth field for REITs to run for the coming months.

Highlights of the Week

This has been another consecutive positive week. We continue to see high interest in net lease retail, which continues to be going well. Seritage Growth Properties, a spinoff of Sears stores, have surprised investors and returned by almost 9% last week. Other stocks such as Realty Income and National Realty Properties have seen valuation multiples get higher over the last weeks and now they seem overvalued. Their dividend yield has been below equity REIT average.

UMH Properties, a small cap in the manufactured home industry, fell by more than 6% this Friday. There was no visible reason for such a sharp drop, which occurred after 2 pm. However, we know that, despite their good dividend history, UMH has not covered their dividends and they seem far from covering them. We believe that the company should have cut their dividends to a reasonable level rather than finance it with debt and equity.

Pebblebrook Hotel Trust

Pebblebrook Hotel Trust surprised many investors and increased its dividend by 23%. Last year we elected Pebblebrook as one of the strongest growth lodging REITs. They have grown AFFO per share more than most REITs have and rewarded shareholders with dividends growing at equivalent rates. So for us, it was not really surprising.

This is a chance for Pebblebrook to react. The Fed decision may be what investors were expecting to invest in lodging again. Without much government interference, we could finally see a robust recovery from undervalued lodging REIT stocks. We have always put the company as part of a group of REITs that enjoy ‘premium’ valuation because of strong quarterly results, experienced management, and its good size in terms of market capitalization.

When we last looked at Pebblebrook on October 23, 2015, its AFFO multiple was about 17x. This week, it was hovering around 11x. Although the stock has room for growth, we do not believe that it will achieve the same multiple of October.

The company will slow growth due to weaker financial markets. Their AFFO per share growth for 2016 is expected to be around 10%, as opposed to last year’s 28%. Moreover, they just approved share repurchase plans.

In terms of dividend yield, the dividend increase puts the company above the average among equity REITs.

In short, if you were looking for an undervalued, well-managed, high yield stock, Pebblebrook could be it.

Disclaimer: This is not a recommendation to buy or sell stocks. The highest-yield stocks are not necessarily the best portfolio investment choice. The purpose of this report — which is essentially a snapshot of information available on March 18, 2016 — is to reduce your stock analysis by enabling you to compare stock and sector performance. Please do your own due diligence before making any investment decision.

As of February 29, 2016, the equity REITs are constituent companies of the FTSE NAREIT All REITs Index. Companies whose equity market capitalization is lower than $100 million have been disregarded.

This report is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.

This year so far net lease retail has gotten a head start on being the best performing REIT sector. Realty Income, National Retail Properties, and Agree Realty have been the companies with top returns, ranging between 9% and 14%. Their rally, however, has decreased dividend yields, generating discontent from dividend investors who do not appreciate reduced yields.

Investors are turning to net lease because they tend to be less volatile than the financial markets. Realty Income, for instance, has a beta of 0.12 for the last 36 months. That is, when the S&P500 varies by 1%, the stock only varies by 0.12% on average.

Also, net lease retail has a good record of paying dividends year after year. Realty Income, National Retail Properties and Agree Realty have been distributing similar or increasing dividends for many consecutive years (18, 26 and 5 years, respectively).

In addition, landlords love net leases because they push costs of maintenance, taxes and insurance to the tenant. Landlords like the convenience of not having to spend time and money maintaining the property. In the end, they benefit from a leaner cost structure and more stable funds from operations.

For all the reasons that I mentioned above, the increasing demand for net leases can be interpreted as a flight to quality.

Single Family Homes

At the same time net lease retail is experiencing a thriving performance, single family homes have been the worst performing sector so far this year. Last year’s announcement of the merger between American Homes 4 Rent (AMH) and American Residential Properties (ARPI) didn’t seem to help their stock performance in 2016. Since January, both AMH and ARPI stocks have dropped by almost 15%.

During the fourth quarter, activist Land and Buildings have tripled their position on ARPI. On 31 December 2015, ARPI represented Land and Buildings’ second largest investment and Land and Buildings were one of ARPI’s largest shareholders. We don’t know yet if the drop is associated with a potential exit of Land and Buildings, which have applauded the merger decision.

As to the newly formed Colony Starwood Homes, the stock has been holding up better. Their 2016 return has been virtually flat. They will release Q4 results this Monday.

This week’s performance

This past week was another good week for REITs. We saw some familiar faces as top performing stocks. For instance, NorthStar Realty (NRF) has climbed to the top after the company has announced the sale of various investments, as well as the creation of a special committee to explore the possibility of recombining with its external manager NorthStar Asset Management. NRF stocks went up by 23%.

NRF rally must have been a relief for shareholders following weeks of poor performance. Nonetheless, there is still a long way to go if the company really wants to regain its November prices.

Disclaimer: This is not a recommendation to buy or sell stocks. The highest-yield stocks are not necessarily the best portfolio investment choice. The purpose of this report — which is essentially a snapshot of information available on February 26, 2016 — is to reduce your stock analysis by enabling you to compare stock and sector performance. Please do your own due diligence before making any investment decision.

As of January 31, 2016, the equity REITs are constituent companies of the FTSE NAREIT All REITs Index. Companies whose equity market capitalization is lower than $100 million have been disregarded.

This report is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.

I’ve always struggled covering popular stocks because oftentimes investors form opinions based on emotions rather than facts. I’m not very keen on unanimity because it creates an aura around a company and management that makes people disregard weaknesses. For sure, it’s good for the company, but this benefit doesn’t necessarily translate to the investor.

Take STAG Industrial for instance. The company has demonstrated numerous flaws in its investment strategy and the way it handles its funding. But no matter what, there has been a legion of investors loyal to the company. The management used to tell investors they wanted to grow their assets aggressively, annually, and the ‘masses’ loved it. The management only skipped the part that a significant portion of growth would come on the shareholders’ expenses. Go figure!

STAG’s share price has now trended downwards. Even a Wall Street analyst downgraded the stock last year; I believe it takes a lot of guts for an analyst to downgrade a stock when everyone else is not. The price accumulated a 17% drop this year and 38% since December 31, 2014. It is now very cheap relative to its peers. Whenever the share price drops, people hopeful of a rebound buy more. By the way, loyalists, just a heads-up–the STAG share price dropped another 9% last week.

The same aura has been created around big ‘O’, the monthly dividend company. The company released its results last Wednesday and shares spiked by 8.2% last week. National Retail Properties (NNN), its closest peer, also released strong results on the following day and the market reaction was ‘nada’. In fact, I have already written articles showing that NNN’s performance is as good as big ‘O’. Also, in the same category of net leases, I have highlighted Agree Realty Corp as an opportunity.

The secret of the big ‘O’ is its track record and consistency. Every month when it distributes the same or increased dividends, it is holding itself accountable to its shareholders. That is, it sends the following message: ‘We have generated growing cash and here it is’. And since it’s been doing so for years and has increased the dividend for 73 quarters in a row, the stock seems to be immune to these volatile times. It has a beta of 0.12, as opposed to NNN’s 0.36.

The other side of the coin is that people quickly forget that the stock seems overpriced relative to its peers, edging an AFFO multiple of 22x. Also, dividend yield of 3.9% is below peer average. It is at the same magnitude of Public Storage, which reached 27x, but it has moved way above the entry point.

Maybe that’s something STAG could learn from O. Focus on track record and consistency, and the market will reward you. This way, STAG could detach from the market’s volatility (STAG’s beta of 1.05).

Disclaimer: This is not a recommendation to buy or sell stocks. The highest-yield stocks are not necessarily the best portfolio investment choice. The purpose of this report — which is essentially a snapshot of information available on February 12, 2016 — is to reduce your stock analysis by enabling you to compare stock and sector performance. Please do your own due diligence before making any investment decision.

As of January 31, 2016, the equity REITs are constituent companies of the FTSE NAREIT All REITs Index. Companies whose equity market capitalization is lower than $100 million have been disregarded.

This report is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.